U.S. Strength

Sometimes I read stuff like this and wonder about it's unintended causes and consequences:

What are sovereign investors doing with their funds instead?

That isn’t hard to decipher. Over the last six weeks, foreign central banks custodial holdings at the New York Fed have increased by an average of $17.8 billion a week.

A week. Let me try to put that in context. $17.8b a week, annualized, is OVER $900 billion a year. If oil averages $100 a barrel in 2008, $900 billion is large enough to cover the US oil import bill (net of petroleum exports) two times over. If oil stays at $115, $900 billion doesn't quite cover the United States oil import bill two times over, but still provides a comfortable margin of extra financing.

The average increase over the past two weeks was even higher -- $18.5b. That, annualized, is just short of a headline grabbing $1 trillion figure. It is real money.

All that money is going into safe Treasuries and almost-as-safe Agencies – not “risk” assets.

Sovereign wealth funds are foreign government owned entities that take their excess dollars and invest them. Think petrodollars going to Saudi Arabia or your WalMart purchase dollars going to China, for example.

A couple of things come to mind when I read this. First, interest rates. This is one of the reasons that, despite a crappy economy and huge budget deficits, interest rates remain depressed. Ordinarily under such circumstances, interest rates should be skyrocketing due to the demand for money to finance the debt. But because the U.S. is shipping so much money overseas, it's sloshing back to the U.S. in the form of other's owning the country. I'm sure you can think of any number of consequences that this may entail. One consequence (that's positive) is it makes liars out of conservatives who say that foreigners are unwilling to invest in the U.S. because of regulation.

Second, what do artificially low interest rates do? They create bubbles, i.e. the tech stock market bubble and housing bubble. As these bubbles grow, consumers spend more accelerating the export of our wealth. Lather, rinse and repeat.

Finally, another thought comes to me. Why do all these countries see the U.S. as a safe, virtually risk free, place to invest money? One word .... military. Because we spend more money on military power than anyone in history, we are seen as a "safe place" to bury money, even safer than a Saudi prince's backyard. And of course, all the military spending accelerates the government spending, the growth of the deficit, and the lather/rinse/repeat cycle mentioned above. But hey, why should Saudi Arabia spend their money on a military when they can hire the U.S. military and have their money invested at 3% in U.S. Treasuries? Again, I'm sure you can imagine several unintended consequences of this dynamic. It sorta makes those conspiracy theorists who see U.S. government officials in bed with the Saudi royal family look a bit more credible.

All in all, it's a huge house of cards that someday will unwind. And when it does, Americans are in for a big letdown in lifestyle and expectations. I guess the saving grace is that if we decide to default on, oh say China, our military will be strong enough to face their demands.